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2 Chapter ObjectivesList three features that distinguish group insurance from individual insurance and describe the characteristics of a group that would be desirable from a group insurance underwriting perspectiveExplain the overall approach used to provide Social Security survivor and disability benefitsExplain the typical eligibility requirements associated with premature death benefit programs and health expense benefit plans offered by employersDistinguish among the different types of group life insurance used in premature death benefit plans

3 Chapter ObjectivesExplain the important considerations in choosing among health benefit providersList several approaches used to contain health expense benefit costs and give examples of each approach listedDetermine the amount and order of payment among several different health plans covering the same loss to the same individualCompare sick leave plans with both short-term and long-term disability income plans

4 IntroductionEmployee benefits have become an important aspect of total compensation in the United StatesAverage employer costs for employee benefits equaled about 39% of payroll in 2001Some benefits are provided by employers primarily to enhance the overall compensation package offered to their employees, such asPaid holidays, paid vacations, discounts on products sold by the employer, subsidized meals, free parking spacesHowever, this chapter focuses on identifying and explaining the employee benefits that can be used as risk management tools in dealing with life, health, and loss of income exposures

5 Reasons for Employee BenefitsUsually, employers make benefits available to employees in order toImprove employee relationsTake advantage of the special income tax status granted to many benefit programs

6 Employee RelationsIn earlier years, employee benefits were frequently referred to as fringe benefitsMany employers viewed them as forms of extra compensation that were not requiredSome employers suggested that they viewed employee benefits essentially as freely given goodsEmployers expected employees to be grateful for their benefitsAnd to respond with increased loyalty, improved productivity, and better morale in the workplace

7 Employee RelationsOver time, however, attitudes of both employers and employees evolvedBenefits that address basic security issues are no longer viewed as frills that command special gratitudeSuch as health care expenses, survivor needs due to premature death, and retirement incomeRather, they are an expected part of most compensation packagesInclusion of such benefits does not often affect employee attitudes because the employer is only doing what is expectedHowever, excluding such benefits could have a negative impact on employee relationsLeading to increased employee turnover and difficulty in recruiting workers

8 Employee RelationsEmployers hoping to significantly improve employee relations from their benefit packages must go beyond what is expectedAlso, employers are becoming more flexible and allowing employees to select the benefits that best meet their individual needsIt is becoming harder for a standard benefit package to efficiently meet the varying needs of all workers

9 Tax AdvantagesMany employee benefits are treated more favorably for tax purposes than are wages and salariesWhen such tax advantages exist, it is usually to an employee’s advantage to receive the benefitRather than to receive a higher salary and then purchase the product separately

10 Tax AdvantagesIn general, tax advantages may be associated with employee benefits if qualification rules are metThe ability of the employer to deduct the cost of the benefit from current taxable incomeThe ability of employees to avoid reporting benefit costs paid by their employers as taxable incomeBenefit payments may be partially or totally exempt from income taxesThe employer’s ability to fund some benefit costs in advanceWith taxes on associated investment earnings either deferred or avoided completely

11 Tax AdvantagesAlthough favorable tax status is a major factor affecting an employer’s willingness to grant employee benefitsThe continuation of current tax advantages is not assuredFrequent changes in the U.S. tax laws affecting employee benefits are commonPeriodic proposals are made to restrict the tax advantages associated with one or more benefitsAnd qualification rules are changed regularly

12 Premature Death BenefitsFrom an individual employee’s perspective, the financial needs likely to be associated with premature death includeThe cost of funeral, burial, and other executor fund expensesAs well as the possible provision of income for surviving dependentsEmployers usually provide death benefits through group life insuranceHowever, both employers and employees should recognize that some death benefits also may be available to employees through Social Security or workers’ compensation

13 Social Security BenefitsThe Old Age, Survivors’, Disability and Health Insurance Program was established in 1935The four major categories of Social Security benefits areRetirementDisability incomeSurvivors’ incomeMedicare

14 Social Security BenefitsSocial Security benefits are financed through a tax on employees and employersOriginally, an employee paid a 1% tax on the first $3,000 of annual income earned, but this base has increased graduallyBy 2004, workers and their employees each paid 6.2% on the first $87,900 of earned incomeThis level of income is referred to as the OASDHI wage baseThe wage base increases automatically each year as earnings levels riseTo finance Medicare, an additional 1.45% tax is payable on all earned income

15 Social Security BenefitsAre payable only if the worker meets certain tests based on the length of service in a job for which OASDHI taxes have been paidA person becomes fully insured after meeting either of two testsHaving worked in covered employment for 40 quartersSubject to a minimum of six calendar quarters, having worked in covered employment for at least one-fourth of the number of calendar quarters elapsing from the starting dateUntil age 62 is attained, or disability or death occurs, whichever happens firstWorkers are currently insured if they have worked in covered employment at least six of the last 13 quartersIncluding the quarter in which death occurs or in which they become entitled to benefits

16 Social Security BenefitsDependents of covered workers who die are entitled to Social Security survivors’ benefitsPayable as a monthly income for as long as the survivors meet specified eligibility criteriaWidows and widowers may receive survivor income benefits as long as they have dependent children under 16, and again, upon reaching age 60Benefits may be reduced if the surviving spouse earns more than a specified amountChildren of deceased workers also receive survivors’ benefits until age 18

17 Underwriting Unit is a GroupGroup insurance plans cover more than one personUnderwriting is based on group characteristics rather than on evidence of insurability for individuals within the groupMembership in a group that has been formed for purposes other than obtaining insurance is often sufficient evidence of insurability for an insurerFor example, if an employee is well enough to go to work, he or she likely will be judged well enough to be insured without passing a medical examination

18 Underwriting Unit is a GroupOne of the underwriting considerations for group insurance is the purpose for which the group existsIf members have been assembled for the sole purpose of obtaining group coverageThe prospective insurer will be very concerned about the presence of adverse selectionFor employee groups, however, this possibility is not a problem

19 Underwriting Unit is a GroupOther factors that may be important in underwriting employee group insurance includeThe group’s sizeInsurers prefer larger groups to smaller ones in order to minimize the likelihood of severe adverse selectionAge compositionIt is also considered best from an underwriting perspective if there is a flow of persons through the group so that the younger members replace the older members over timeThe average age of persons in the group is fairly constant and loss experience tends to be more stableExpected lossesInsurers are often interested in specific design features of a group insurance program because such features may have an impact on the losses experienced by the group members

20 Lower ExpensesThree factors tend to lower some other expenses when insurance is purchased on a group basisInsurers usually pay lower commissions to their group sales force than to those selling individual insuranceBecause individual selection is not required, group underwriting expenses tend to be lower than would be the case if a similar number of persons were to be insured on an individual basisEmployers may handle some administrative tasks for employee groupsSuch as recordkeeping and the collection of employee-paid premiums

21 Experience RatingWith group insurance, the losses experienced by the group influence the rates chargedKnown as experience ratingThe group will have greater or smaller premiums in the year ahead if its losses are larger or smaller, respectively, during the preceding yearProvides employers with an incentive to try to lessen group losses through various types of loss control activities

22 Group Life InsuranceMost medium- and large-sized firms in the United States provide group life insurance benefits for some or all of their employeesBy 2002 group life insurance accounted for over 40 percent of all life insurance in force in the United StatesWith most of that group life coverage attributable to employee groups

23 Eligibility for BenefitsThe first step is to determine whether the person is eligible to participate in the employer’s planEligibility requirements often specify that a person be employed on a full-time basisAlthough some employers provide death benefits for permanent part-time workers and many employers continue death protection after an employee retiresEligibility may be restricted to those working in particular job classificationsSome employers limit eligibility to those persons who have worked for the firm for some minimum period of time

24 Eligibility for BenefitsEmployers must adhere to various state laws regarding employment discriminationAs well as federal laws that discourage employers from favoring very highly paid workersEmployees generally have little or no control over their eligibility for death benefits

25 Eligibility for BenefitsMany death benefit plans have two other eligibility requirementsEmployers usually specify the employees who want to participate in the plan must elect to do so soon after meeting the eligibility requirementsEmployees are usually not required to participate even if they are eligibleHowever, if they do not elect to participate within a specified time after becoming eligibleThey will not be allowed to enter the plan at a later date unless they prove at that time that they are insurableThe death benefit usually does not become effective for a particular employee unless that person is actively at work on the day the coverage is scheduled to go into forceThis provision only relates to initial eligibility

26 Contributory versus Noncontributory PlansRequires employees to pay part of the costNoncontributoryEmployer pays the full cost of the death benefitsGenerally assumed that all eligible employees will participateIf the contributory plan is established, the primary decision for eligible employees is whether to participateEmployees should compare the required contribution to the benefits to be received, both currently and in future yearsGroup life insurance is usually less expensive than individual insurance, but exceptions existThe tax consequences should be considered as well

27 Structure and Level of Death BenefitThe amount of group life insurance provided for a particular worker is usually a function of either salary or job classificationIf the employer’s goal is to provide for funeral and burial costsAll participating employees may be given a flat amount of coverageMore often the amount of the death benefit depends on other factorsSalary bracket approachWorkers whose earnings are within various ranges are eligible for a specified amount of death protectionJob classification approachDevised for various job classifications such as secretaries, factory workers, sales personnelEarnings multiple approachDeath benefit for a particular employee is a specified multiple of that person’s salary for the year

28 Type of Insurance Group term insuranceMore death protection can be purchased on a term insurance basis than with any other form of life insuranceIncome tax laws also tend to reinforce thisA portion of all premiums paid by the employer for cash value life insurance is usually treated as currently taxable income for employeesHowever, employer-paid premiums for the first $50,000 of term insurance for each worker are not taxable for employeesTerm insurance can also be provided to cover the death of an employee’s dependentKnown as dependent life

29 Type of Insurance Survivor income benefit insuranceBenefit is expressed as income to specified survivors rather than as a flat amountIf no eligible survivors exist at the time the employee dies, no benefits are payableGroup accidental death and dismemberment coveragePayable only for deaths due to accidentsThe death usually must occur within 90 days of the accident’s occurrenceCommonly excluded causes of death are suicide, disease, mental infirmity, infection, war, and flight in an aircraft other than a regularly scheduled commercial flightThe premium is much less than for regular group term coverage and employees often pay most or all of the costPolicy also pays in the event of dismemberment

30 Type of InsuranceSome employers are interested in helping employees provide for financial needs because of death after retirementEmployers can continue term insurance coverage for retireesEmployers can facilitate their employees’ purchase of permanent insurance protectionTwo forms of group coverage for retiring employees are group ordinary insurance and group universal lifeGroup universal life is growing in usageEmployees must often pay the entire premium but it may be less expensive than comparable protection purchased individually

31 Contractual ProvisionsGroup life insurance policies have many of the same contractual provisions found in individual policiesThe misstatement of age clause differs in that the amount of death benefit payable is not affected due to a misstatement of ageRather, the employer is subject to an adjustment in the premium payable

32 Contractual ProvisionsOne provision in group life contracts not found in individual policies is the conversion clauseProvides that when an employee is no longer eligible for group coverage he or she has the right to convert the coverage to an individual policy without having to prove insurabilityRequired by all statesTo take advantage of the conversion feature, an individual generally must apply within 31 days after termination from the groupMust pay the premium applicable at that person’s current ageIn many cases, group coverage can be converted only into an individual cash policy

33 EligibilityThe first step in integrating employer-provided health expense benefits into an individual’s personal risk management planIs to determine the extent to which a person and his or her dependent family members are eligible for the employer’s planMost of the same considerations that were important for premature death benefits are also relevant for health expense benefitsBenefits may be limited to those employees who work at least a stated minimum number of hours each weekAnd/or those persons employed in particular job classifications

34 EligibilityFor a person to be eligible for benefits as a dependent of an employeeThe employee must be participating in the employer’s planDependent benefits are restricted to those persons who meet other specified requirementsFor example, if dependent coverage is offered, the spouse of an employee is nearly always eligible for the benefitsFor the employees’ children to be eligible, they usually must be unmarried and under a certain ageSome plans provide dependant coverage regardless of age for mentally or physically handicapped children who are completely dependent on the employee for financial supportA newborn is covered from birth in many plansBut in less generous plans, coverage for the newborn may not become effective until the child reaches a specified age

35 EligibilityAnother eligibility consideration is whether retirees are included in the health benefit programWhen benefits are granted to retirees, it is usually through a Medigap policy that pays for items not covered by Medicare or through it a Medicare carve-out arrangementApplicable Medicare payments are deducted before paying promised benefits

36 EligibilityCoverage for retirees of many employers is not as generous as it used to beIn 1993 FASB required firms to report retiree health benefits as a liability that is accrued over employees’ working livesWhereas before firms could report such expenses on a pay-as-you-go basisOnly the actual expenses paid for health benefits and or insurance during the year were charged against incomeResulted in reduced corporate earningsMany employers have made substantial cuts in their retiree health benefits and others have eliminated the benefits entirely

37 Contributory Versus Noncontributory PlansMany employers provide noncontributory death benefitsBut it is quite common to require employee contributions for a patient in an employer’s health expense benefit programAs health care costs continue to rise, it can be expected that the level of contributions required of employees will also increase

38 Contributory Versus Noncontributory PlansWhen an employee pays part of the cost for health expense benefitsEmployers are allowed to offer their employees a premium conversion optionPremiums are paid with pre-tax dollars rather than after-tax dollarsAccording to the tax law, medical expenses are deductible only from an individual’s current taxable incomeTo the extent that total medical expenses exceed a threshold level equal to 7.5% of adjusted gross incomeThus, many persons are unable to benefit from the tax deductibility of contributions for health expense benefitsAn example is summarized in Table 19-1

40 Contributory Versus Noncontributory PlansWhether the premiums are paid with pre-tax dollars or after-tax dollarsThe opportunity to participate in an employer’s health expense benefit plan will prove cost effective for most peopleHowever, in some instances it makes sense to reject coverage under a contributory planFor instance, a husband and wife may be covered under different employee health plans and coverage for their dependents could be an option under each planThey must decide whether to cover their children under one or possibly both of their employee health plansThey need to compare benefits, exclusions, and limitations, and the relative costs

41 Providers of CoverageThe major providers of health expense coverage are insurance companies, Blue Cross-Blue Shield organizations, health maintenance organizations (HMOs), point-of-service (POS) plans, and preferred provider organizations (PPOs)Employers often use more than one of these providers and some employers often also set up self-funded benefit programsIt is important to analyze the choices offered by each of the programs

42 Choice of PhysicianWhen an insurer, the Blues, or a self-funding arrangement is used to provide health expense benefitsThe employee will typically have freedom of choice regarding the physicians, hospitals, etc.Employees covered by an HMO must obtain medical services from doctors and others who belong to the HMOExcept in emergency situations while the employee is out of townWhen a PPO or POS plan is used, the employee can make a choice regarding physicians each time medical services are neededBut higher cost-sharing will be required if an out-of-network provider is chosen

43 Coverage and ExclusionsNo standard set of medical needs is always covered or always excludedEmployees must analyze all of the programs available to find one likely to meet their needsHealth care expenses often are categorized as to whether they includeHospitalization, physicians and surgeons’ services, dental care, mental health care, long-term care, prescription drugs, etc.Not all benefit programs cover all of these needs to the same extent

44 Coverage and ExclusionsTraditional insurance plans may exclude routine types of medical expensesOn the grounds that insurance benefits should be reserved for unexpected medical problemsHowever, HMOs or POS plans place more emphasis on preventing small problems from becoming larger onesIn some jurisdictions, state-mandated benefits apply only to plans offered through insurers and the BluesExamples include coverage of at least a specified amount for alcohol and drug abuse treatment

45 Cost to the Employee Two cost aspects should be consideredThe amount of monthly contribution that is required of the participating employeeThe amount of cost-sharing that will be incurred by the employee at the time medical services are soughtPlans offered by insurers and the Blues usually have both coinsurance and deductiblesCost-sharing for participants in HMOs is usually minimalMaximum benefit limits may not exist

46 Cost ContainmentHealth care costs have increased rapidly in recent yearsEmployers now include a number of cost-containment provisionsGenerically called managed careCost containment methods includeTrying to reduce the unnecessary use of health services by employees and their families byRequiring use of primary care physicians rather than allowing direct access to specialistsPrecertification of benefitsRequires that certain nonemergency medical services be authorized before the delivery of treatmentIf precertification is not obtained, the benefits provided by the employer’s plan are usually reducedTry to have treatment provided at the least costly locationsAuthorizing the use of hospice care by terminally ill employees or dependentsTrying to avoid payments for charges never incurredIncreased efforts to detect fraud and eliminating overpayments resulting from billing errors by hospitals

47 Cost ContainmentEmployers are increasing their efforts to try to prevent medical problems in the first placeDevelopment of aggressive fitness and wellness programs for employee groups can have a major impact on the frequency and severity of medical claimsMany employers are moving toward consumer-driven health careTry to make employees better consumers of health care byGiving them financial incentives to control costsGenerally take the form of high deductiblesProviding them the information they need to make sound health care decisions

48 Coordination of BenefitsSometimes an employee or a dependent is covered by both the employer’s health expense benefit plan and another benefit program or insurance arrangementThe amounts payable by the various plans are covered by their coordination of benefits (COB) provisionsIndividual states generally specify the COB provisions to be included in plans offered by employees

49 Coordination of BenefitsFour basic principles are involvedWhen a person owns personal insurance, the amount payable from the insurance does not lessen or otherwise affect the amount payable from benefit programs provided by employersThe maximum reimbursement from all employer-sponsored plans is 100 percent of necessary and reasonable medical expenses incurred and covered by least one of the employers’ plansDependent coverage is provided in excess of coverage as an employeeChildren are covered first by the plan of the parent whose birthday is earlier in the yearUnless the parents are separated or divorcedThe plan of the parent who has custody of the child pays first

50 Pre-Existing ConditionsA health problem that exists before health expense coverage becomes effectiveBefore the 1996 passage of the Health Insurance Portability and Accountability Act (HIPAA)Employees often were provided no coverage under employers’ health plans for a period of time for problems arising out of pre-existing conditionsEmployers can now impose pre-existing conditions limitations in their health plans for maximum of one yearEmployees must receive credit for the time that they were covered under previous employers’ plans, individual health insurance policies, Medicare and/or Medicaid if it has not been more than 63 days since this previous coverage was in effect

51 Termination RightsWhat happens to an employee’s health expense benefits when he or she terminates employment with the sponsoring employer?If the termination is due to retirementThe employee may be eligible for coverage in a special retiree health planIf the termination is due to disabilitySome employers will continue to cover this employee in the group plan

52 Termination RightsWhen neither of the previous alternatives exist or is relevantConversion to an individual health plan may be desirableMany states require that an individual health insurance policy be offered in place of a group policy when an employee ceases to be an eligible group memberUnder HIPAA individuals are assured of the availability of individual coverageBut this protection does not have to be as broad as the group insurance and the cost is nearly always more than before

53 Termination RightsIn 1985 Congress passed the Consolidated Omnibus Budget Reconciliation Act (COBRA)Applies to firms employing 20 or more employeesGrants former employees and previously covered dependents the right to continue participation in their group health plans for a specified periodEven after they’re no longer eligible under the plan’s eligibility rulesCan be required to pay the full cost of coverage plus an additional amount to cover expensesBut the total paid is often less that what would be required if they converted to individual health insuranceThe maximum length of time for continued participation in the group program is generally 18 months for former employees and 36 months for formally covered dependents

54 Disability Income BenefitsThe loss of health can result not only in substantial medical expenses but also in a reduction or cessation of income due to the inability to workSome disabilities are temporary whereas others are permanentEmployee benefit programs vary considerably to the extent to which they address workers’ potential loss of income due to injury or illnessWhen offered, benefits are usually restricted primarily to full-time workers and are designed as one or more of the following typesSick leave plans, short term disability income plans, and long-term disability income plans

55 Social Security Disability Income BenefitsThe amount of the benefit is dependent on the disabled person’s previous earnings historyBenefits are increased if the worker has dependentsWith each dependent receiving 1/2 of the benefit payable to the disabled worker, subject to a family maximumTo be eligible for disability benefits, workers must have a specified minimum work recordGenerally, must one must have worked half of the ten years before the time one applies for disability benefitsMedical evidence must be provided to prove disabilityA five month waiting period is required and the impairment must be such that it is expected to continue at least twelve months

56 Sick Leave Plans Often called salary continuation plansUsually designed to pay the full amount of an employee’s salary during periods of temporary disabilityUsually do not involve either disability income insurance or any other formal mechanism for funding the promised benefitsIf the period of illness or other health problem is only a few daysVerification by a physician usually is not requiredBut if the inability to work extends beyond about a weekMany employers require medical certification of the illness or injuryEmployees should be aware of the rules regarding the accrual of benefit rights

57 Disability Income PlansShort-term disability (STD) income plansHave maximum benefit periods of about two yearsLong-term disability (LTD) income plansAny arrangement that might pay for longer than two years

58 Definition of DisabilityUnder an STD, the usual definition is the one requiring that the employee be unable to perform the major duties of his or her occupationFor LTD plans, the definition usually has two partsFor the first one or two years the own occupation definition usually appliesAfter that an individual is classified as disabled only if unable to perform the major duties of any occupation for which he or she is qualified through education, training, or experience

59 Elimination Periods The waiting period before the payment of benefitsEmployees should note the relative limits of the elimination periods and maximum benefit periods for STD, LTD and sick leave plansGaps and overlaps in payment periods sometimes resultEmployees who are confronted with potential gaps may want to make individual arrangements to fill those gapsWith either individual disability income insurance or personal savings dollars

60 Benefit LevelsMost sick leave plans are designed to provide full income replacementDisability income plans usually provide only partial income benefitsSTD plans usually provide a higher percentage of salary than LTD plansIn both cases dollar maximums may also applyBenefits payable under most employer-sponsored STD and LTD plans are reduced to reflect any disability payments the employee receives fromSocial Security, workers’ compensation, the employer’s pension or other retirement plan, and the employer’s sick leave plan

61 Contributory Versus Noncontributory PlansBecause sick leave plans generally have no formal funding arrangements, in most cases they are noncontributorySTD plans are often established on a noncontributory basisMost LTD plans are contributory and some are financed entirely by employee contributionsEmployers receive a tax deduction equal to the contributions they make to fund disability income plansThe extent to which disability income benefits paid to an employee are taxable as incomeDepends on how much the employee has contributed during a specified period toward the cost of the employer’s planFor noncontributory plans, all disability income benefits are fully taxableBenefits paid from employee-pay-all plans are completely exempt from income taxes